Risk On I: Big Tech Is Back, Risk On II: Frontier Markets, Caveats: Bad Breadth and Valuation

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The market followed through Monday after last Thursday’s breakout session with another explosive move higher. The move was once again led by Big Tech with QQQ +2.00% and the S&P 500 Technology Sector (XLK) +2.07% compared to +1.44% for the S&P overall and +0.49% for the Russell. Some of the biggest of the big technology stocks were up even more than that with GOOGL +4.19%, FB +3.43% and MSFT +2.77%, all closing at new ATHs.

Also breaking out yesterday was the Frontier Markets ETF (FM). With net assets of only $436 million, this ETF isn’t important in and of itself but for what it says about risk appetite, like Alphonso Depablos tweeted. This ETF’s country exposure is 19.2% Kuwait, 15.4% Vietnam, 10.8% Morocco, 8.3% Romania, 8.3% Kenya, 7.8% Nigeria, 6.9% Bahrain, 6.3% Bangladesh, 4.3% Kazakhstan and 3.6% Oman. I doubt more than a handful of American investors know much at all about the economies and stock markets of any of these countries so you know they are feeling good when they’re putting their money into these dicey areas of the world.

Despite the incredibly bullish market action, there are a couple of caveats. To continue with technicals, the Russell lagged yesterday, up only 0.49%, and so did NYSE + NASDAQ breadth with 4,593 Advancers (59% of total issues traded) versus 2,908 Decliners (38%). It’s surprising to see less than 60% of stocks advancing and almost 40% declining on such an explosive move higher by the major indexes. What it means is that, like in the first stage of the move off the March 23, 2020 lows, the biggest of the big stocks, Mega Cap Tech, are once again leading.

But investing in Mega Cap Tech carries its own risks because valuation here is getting out of control. Let’s just take the three stocks I mentioned earlier, MSFT, FB and GOOGL, each of which outpaced the market yesterday and closed at ATHs. MSFT is now trading at 36x 2020 Diluted EPS even after deducting its $71 billion in net cash from its market cap. FB’s equivalent multiple is 29x (excluding a 31 cent/share tax benefit in 3Q20) and GOOGL’s 36x. There is very little case to be made, in my opinion, that these multiples are not stretched.

More broadly, about 200 of the top 1500 stocks representing $2 trillion in market capitalization are unprofitable in each of the last three years, a level rivaled only by the top of the Dot Com Bubble.

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